The unprecedented pandemic that hit the mankind with great gravity as
witnessed after a century, the world had not anticipated a situation where
across the globe personal and commercial agendas would be brought to a
standstill. It felt as though this phase is going to shape a new era! An era
where terms like quarantine, lock-down, social distancing, etc were set to
replace the previous way of life and become the so called New-Normal
has caused business interruptions and every business whether big or small have
been adversely impacted causing furloughs, pay cuts and stalling of corporate
actions and deals globally.
M And A world has been through economic crises and financial instabilities, however,
this time the M And A deals are not only affected by financial parameters but a
plethora of factors associated with the on-going pandemic situation. It has been
announced that SoftBank Group Corp terminated tender offer for up to $3 billion
worth of share of WeWork. SoftBank stated that the termination was due to
unfulfilled closing conditions that included government actions pursuant to
Covid-19 which imposed restrictions against WeWork and its operations. While on
the other hand India's Reliance Group company, Reliance Jio has backed and
converted huge investments from Vista, Facebook, silver lake during these
While we are trying to adapt and outgrow what nature has thrown our way, there
are tremendous changes in the perspective with which corporate actions like
Mergers And Acquisitions are being navigated in this scenario. Corporates and
financial intermediaries are carving out new approaches which are possibly going
to re-shape the procedures and technicalities involved in concluding M And A deals.
These factors could be the basis on which deals are made or broken in this
This article attempts to highlight and analyze the components to be taken into
consideration while structuring M And A deals amidst the pandemic:
Due-Diligence IssuesDue-diligence is an essential activity for a buyer to confirm pertinent
information about the seller like contracts, compliance and finances of the
company. Due-diligence activity helps to analyze the risks involved in the legal
and financial problems of the target company.
The following would be the crucial
areas around which due-diligence today would revolve:
- Considering how important this activity is, the limitations imposed due
to travel restrictions and work from home (WFH) pose as a hinderance for smooth
inspection without physical visits. Accordingly, seller company needs to design
a protected mechanism and system so that all the data required to be scrutinized
can be accessed remotely by the authorized persons.
- Revised Financial projections are analyzed by acquirers to emphasize on
the degree of change in the projections and how achievable are the new
projections in the current market scenario considering the current liquidity
and estimated cash flows.
- The acquirer is obliged to fulfill the contractual obligations entered
by the target company. Thus, apart from the legality of the contracts
entered, the acquirer would focus on whether or not the contracts entered by
target company include Force Majeure clauses that may enable it or the counterparty to
terminate the contract or performance of the contract.
- Scrutiny of customers portfolio and debtors and risks involved in
recovery of receivables.
- The changes in the employment policies including furloughs and pay-cuts
if any. Identifying the key employees and management personnel and devising
a strategy to have a balanced team with existing employees, so that the
company's business decisions are not hampered in case unfortunate pandemic
situation faced by any employee.
- The acquirer shall also scrutinize whether the target company qualifies
as an MSME and are eligible to take advantage of collateral free loans fully
guaranteed by Centre and loan moratoriums. If so, the effect of these terms on
the future plans of the target company will be examined.
- Insurance policies that the company is covered under and whether the
losses as a consequence of Covid-19 are insured under these policies or any
- Lastly, the acquirer would also consider the compliance Business
Continuity Plan, Crisis Management procedures and health and safety measures
These incremental due-diligence could affect the relative bargaining power of
the parties involved in the purchase agreement
Availability of finance for acquisitions:Acquirers generally funds their acquisition partially through debt. However, the
current volatility has made it difficult and challenging for lenders to provide
financing. As many businesses are facing cash crunches, the risk of loan getting
converted into an NPA (Non-Performing Asset) is greater.
Thus, there could be
additional security or terms that the lender would want to impose to ensure that
the advance does not go bad. The negotiations with lenders and production of
additional documents or requirements could be arduous and time consuming. The
seller needs to foresee and be prepared for any kind of delay as buyer's
liquidity issues could significantly affect the closing of the deal.
However, as attractive as acquisition transactions seem, is it really favorable
to finance buyouts with debts. Professor Aswath Damodaran determined that
coronavirus pandemic was 'not a full-scale panic where all stocks were punished
There was actually a rationality of how market
knocked down stocks.' Professor Damodaran explained that the best performing
industries spanned from medical service sectors to those supplying daily
essentials like toilet paper, cleaning supplies and food.
The worst performers
included financial services due to the defaulted debts. He noted that most of
the poor performers held large amounts of debt adding, 'the cautionary tale
coming out of this crisis is companies should be much more careful about pushing
the financial leverage button to obtain growth. This is the dark side of debt.'
Impact on Negotiations, Term sheets and Letter of intent:Pandemic has posed new challenges in conducting of due-diligence activity and
this has caused a deviation from the normal course in which negotiations and
terms were established. Presently, buyers feel justified in going forward with
any kind of negotiations only after completion of incremental ground level
due-diligence and contemplating the degree of adverse effects of the pandemic on
the buyer's business and related markets. The period involved would vary
depending on the seller company's compliance history and financial portfolio.
However, when the negotiations begin between the two parties, the buyer would
definitely attempt to include the scope of Material Adverse Effect (MAE) in the
closing conditions, stringent pre-closing covenants and drop dead dates. The
buyers would also intend to have longer periods of exclusivity in anticipation
of any fall outs due to the pandemic considering the volatility in the current
market. This is not completely in favor of buyers as the sellers could terminate
the period of exclusivity in case of any indication about the transaction having
Agreement terms and specific contractual language:Definitive purchase agreements are documents used for transfer of ownership of a
company that includes terms and conditions such as purchase consideration, asset
purchased, indemnity, representation And warranties, closing conditions, dispute
resolution, etc. Even in the pandemic scenario, there are strategic investors
and buyers whose liquidity has not been severely affected.
These cash-rich investors are looking for strategic alliances with companies
having promising product strategy and financial estimates for the near future.
However, there could be two approaches here, investors with short term goals
that intend to buy companies bearing financial returns in near future or with
long term goals wherein the post pandemic situation is considered even though
the business might not be profitable in current scenario (viz. hospitality,
travel, aviation, co-working spaces, etc). However, the pandemic has placed the
buyers/acquirers in a position with greater leverage than the sellers and thus
dictating the deal terms to some extent.
The following are the clauses that have
Material Adverse Effect/Change Provisions (MAE/MAC): MAE definition sets the parameters for which a buyer is permitted to
terminate the transaction if there is a material adverse event affecting the
target company. With the onset of the pandemic every party to an agreement
would review the terms to determine whether they have a right to terminate
or suspend the performance of obligations or re-negotiate the terms of the
agreement based on the material adverse change caused due to COVID-19.
The buyers would emphasize on certain contractual language including the
disproportionate clause in order to conclude transactions and would specifically
exclude pandemic from the carve outs. So while determining the MAE, the buyers
would seek to include pandemic situation like COVID-19 or similar health crisis
along with disproportionality clause so that the buyer can still take shelter
under MEA if the target company has been affected more than its competitors in
the market during the pandemic.
Pre-closing Covenants: There could have been breach of certain standard covenants due to the
restrictions laid down by the government during the pandemic. The seller can
propose the buyer to consider these deviations as exceptions and both the
parties would need to deliberate on whether these breaches could have been
avoided and to what extent have they deteriorated the interest of the buyer
in the business. In new agreements, the seller would want an assurance that
reasonable acts done in response to the pandemic such as workforce
reduction, increase in expenses to deal with pandemic and keep business
running, capital changes, changes in personnel policies and compensation
plans would not be considered as breach of covenants. However, the buyer and
seller need to have mutual understanding and approvals.
Indemnity and Representations: Representations are given in order to make the other party familiar with the
internal state of affairs that cannot be known unless you are an integral
part of the business. Buyers would emphasize on providing broader
indemnities and representations during the pandemic situation. This would
include relationship with customers, notices invoking the force majeure clause and suspension of performance by suppliers/customers, compliance
issues, seller's contingency plans and future prospects of the existing or
proposed business transactions. Representations are crucial for buyers for
making a decision whether to go ahead or walk away from the transaction.
Drop Dead Dates: Drop dead dates is a date after intended closing date post which either
party can terminate the agreement due to any kind of unforeseen delays. This
could be caused majorly due to non-receipt of regulatory
approvals. During the pandemic situation both parties will consider extending
the period of time between signing and the drop-dead date as the functioning of
regulators viz. Stock Exchanges, SEBI, ROC have been significantly impacted by
the pandemic delaying the receipt of approvals.
Price Adjustment provisions: In M And A valuation, Discounted Cash Flow (DCF), Net asset value (NAV) and
Market Price are the broadly used methodologies involved in carrying out
valuation of target company. However, it is pertinent to understand the changes
in the price adjustments provisions during the pandemic. Professor Aswath
Damodaran in his speech delivered to this year's CFA Institute Annual Virtual
Conference said 'Go Back to Basics' regarding valuations.
He advised investors
to stick with traditional valuation tools with adjustments for the pandemic.
The purchase price adjustments in valuation methods based on the target
company's cash liquidity and indebtedness as on the close of the financial year
could result in reduced net purchase price due to the additional expenses and
fluctuating cash flows. From the point of view of working capital, the new
levels of scrutiny by the buyers may lead to greater levels of normalized
working capital to ensure adequate capital for future operations. These
adjustments pursuant to the pandemic could lead the sellers to face loss of
credits that they would have otherwise received.
The pandemic has led to increase in distressed M And A transactions where the target
company is in dire need of financial assistance or a dynamic management in order
to restructure the business and ensure business continuity. While we are
striving through this phase, what it has taught us is that uncertainty is the
way of life and not all plans might materialize. However, it has also made us
realize that no matter what life throws our way, we can always find a way out of
it!Award Winning Article Is Written By: Ms.Disha Shenoy
Authentication No: OT773836561-14-1020